Euro reaches 2-month high on suggestion of increase in interest rates

Section:

By Steve Rothwell and Vivianne C. Rodrigues
Bloomberg News Service
Tuesday, March 8, 2005

http://www.bloomberg.com/apps/news?
pid=10000087&sid=ahi9FM5uTMDA&refer=top_world_news

The euro advanced against the dollar to its highest in two months
after European Central Bank policy maker Nout Wellink suggested to
the Financial Times Deutschland the bank may raise interest rates to
head off inflation.

Wellink told the newspaper in an interview that the euro region
has "extremely low interest rates," which "will boost inflation in
the end." The ECB's mandate is to maintain price stability, and the
bank has a 2 percent inflation limit. Consumer price gains matched
the bank's target last month after slipping below the rate in
January, the European Union said on March 1.

"The euro will be supported by increasing evidence that interest
rates are going to be raised," said Benedikt Germanier, a foreign-
exchange strategist in Zurich at UBS AG, the world's biggest
currency trader. "Wellink believes they should raise rates sooner
rather than later."

Against the dollar, the euro appreciated to $1.3295 at 9:51 a.m. in
New York, from $1.3214 late yesterday, its strongest since Jan. 5,
according to electronic currency-dealing system EBS. The U.S.
currency fell to 104.51 yen, from 105.18. UBS forecasts the euro
will gain to $1.36 in three months. The bank expects the ECB to lift
its key rate for the first time in five years in the second half.

The yen began its advance in Asian trading after a government report
showed the number of Japanese full-time workers increased for the
first time since 1997, boosting optimism the economy will pull out
of last year's recession.

"Wellink's comments are quite significant," said Bilal Hafeez, head
of currency strategy at Deutsche Bank AG in London. "An acceleration
in money-supply growth does raise the prospect of the ECB raising
rates in the second half of the year." Deutsche Bank, the second-
biggest currency trader in Euromoney magazine's annual survey,
forecasts the euro will rise to a record $1.38 in six months.

ECB President Jean-Claude Trichet said in a Frankfurt press
conference on March 3 that it's "clear for the full body of
observers that at a time we will have to increase rates." Euro-
region money supply, the ECB's gauge of future inflation, grew the
most in a year in January, the bank said on Feb. 25.

The ECB has kept its benchmark rate at 2 percent, a six- decade low
for the 12 nations sharing the euro, since June 2003. The median
forecast of 29 economists in a Bloomberg survey published on Feb. 25
was for the bank to lift the rate to 2.25 percent in the fourth
quarter.

"What the market welcomed most was the notion that the next step
would be upward, and that was supportive for the euro," said Armin
Mekelburg, a currency strategist in Munich at HVB Group, Germany's
second-biggest bank by assets. He forecasts the euro will reach
$1.35 in two months.

The euro advanced even after European Union finance ministers failed
to agree on a proposed relaxation of budget-deficit rules as Germany
demanded greater scope for higher spending or lower taxes to spur
the faltering economy.

The Federal Reserve has raised its target rate six times since June,
in quarter-point steps, to 2.5 percent. The dollar fell 1 percent
against the euro on March 4 after government figures showed the U.S.
unemployment rate rose and average hourly earnings were unchanged
last month, suggesting the Fed won't accelerate the pace of interest-
rate increases.

The jobs report was "really disappointing," said Robert Lynch, a
currency strategist in New York at BNP Paribas. "That reinforced
what has already been some bearish dollar sentiment in the market."
Lynch forecasts the dollar will weaken to $1.34 per euro by the
June.

Fed Governor Ben S. Bernanke and St. Louis Fed President William
Poole will speak today. Bernanke, a voting member of the rate-
setting Federal Open Market Committee, will discuss the economic
outlook in Chicago at 2 p.m. New York time. Poole, who doesn't vote
on monetary policy this year, will speak in Florida at 11:45 a.m.

In Japan, the full-time labor workforce rose 0.8 percent in January
from a year ago to 32.1 million workers, the first gain since
September 1997, today's report showed. The government said on Feb.
16 that Japan last year slipped into its fourth recession since
1991, as the economy contracted for three straight quarters.

"We're looking for the economy to move out of a soft patch,
dispelling the view the recovery is faltering," said Satoru
Ogasawara, a currency strategist in Tokyo at Credit Suisse First
Boston. "Japanese data will point to a stronger yen." The yen may
gain to 101 in three months, Ogasawara said.

Also today, a government report showed sentiment on the outlook for
Japan's economy rose for a third month. The Economy Watcher's
outlook index, which measures expectations for the next two to three
months, rose to 49.9, its highest since September. The Cabinet
Office's survey asks 2,050 people nationwide whether they think the
economy is improving or deteriorating as well as their outlook for
the economy in the coming months.

"The underlying conditions are improving," said Jeremy Stretch, a
currency strategist at Rabobank Groep in London. "This does suggest
we will see an appreciation of the yen through the course of this
year." Stretch said the yen may rise as high as 102 per dollar by
the start of April.

A government report tomorrow may show Japan's index of leading
economic indicators is signaling growth in the world's second-
largest economy. The index probably rose to 55 in January,
surpassing for the first month in five the 50 percent level that
signals growth will pick up, according to the median of 27 forecasts
in a Bloomberg survey.

Japanese Vice Finance Minister Hiroshi Watanabe said today
that "there are some concerns that the yen is still overvalued." The
yen reached a five-year high of 101.69 per dollar on Jan. 17.
Watanabe, the country's top currency official, said in a speech in
Tokyo that "if there are some abrupt moves we are very much ready"
to act.

Demand for the dollar may be limited this week before the Commerce
Department's March 11 trade report, which probably will show the
second-widest deficit ever. A wider gap means more dollars need to
be converted to other currencies to pay for imports.

The gap between imports and exports grew to $56.8 billion from $56.4
billion in December, based on the median estimate of 57 economists
surveyed by Bloomberg News, making the shortfall second only to the
record $59.3 billion in November.

Record U.S. trade deficits may shrink, Fed Chairman Alan Greenspan
said in London on Feb. 4, causing the dollar to gain the most in
three weeks versus the euro. Fed Bank of Philadelphia President
Anthony Santomero said on March 1 that growth in U.S. trading
partners will help narrow the deficit.

"Greenspan and others have said the trade balance was going to
improve; now we have to see that come to fruition," said Jake Moore,
a currency strategist in Tokyo at Barclays Capital Inc. "I'd
anticipate the trade deficit to add to a drop" in the dollar. Moore
said the U.S. currency may decline to $1.33 per euro in the next few
days.

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